The Classification Conundrum

Nicholas Lai suggests ways to mitigate the risk of an adverse classification of goods by customs.

You are a manufacturer in a highly competitive industry. After tirelessly marketing your products to a potential new customer, they finally decided to place a batch of orders with your establishment. It is imperative that you deliver on your promises to the new customer. You impress on your supplier that there can be no delays on delivering the raw materials. The raw materials are packed, loaded and are finally on their way to Malaysia. You receive the usual documentation from your supplier – the commercial invoice, bill of lading, certificate of origin, packing list, etc. You forward these documents to your trusted forwarder ahead of time for customs clearance.
 
Finally, you receive word that the shipment has arrived. But your forwarder also informs that the goods have been declared under the wrong HS Code (see below for definition), requiring payment of additional customs duties and sales tax. You are puzzled as this HS Code has never given problems in previous batches of raw materials. But because you cannot afford a delay, you have no choice but to pay the additional customs duties and sales tax.
 
Whether you are a manufacturer, a trader, or just simply an importer of goods, this scenario happens all too often. The next step for the importer in question entails undertaking internal appeal processes with the Royal Malaysian Customs Department (“RMCD”) on whether the attending customs officer had properly classified the imported goods under the HS Code.
 
This article does not intend to explore the appeal processes but rather seek to highlight ways to reduce the risk of a differing HS classification at the point of entry.
 
MINIMISING THE RISK
 
By way of background, the Harmonized Commodity Description and Coding System, ‘HS Code’ in short, is a common standard worldwide for describing the type of commodity that is shipped. Developed by the World Customs Organisation (“WCO”), the HS Code is adopted by customs authorities throughout the world to differentiate the classification of goods, and the tariffs/customs duties applicable thereto.
 
In Malaysia, the RMCD is guided by the Customs Duties Order 2017 (“CDO 2017”) which sets out over 5,400 HS Codes and the accompanying customs duties. In classifying goods, the CDO 2017 provides that classification is governed by the six General Rules for Interpretation of the Harmonized System under the International Convention on the Harmonized Commodity Description and Coding System, as developed by the WCO. Similarly, for sales tax, the Sales Tax (Rates of Tax) Order 2018 and Sales Tax (Goods Exempted from Tax) Order 2018 are also sorted by HS Codes.
 
One of the best ways to minimise the risk of a differing HS Code classification is to engage the RMCD prior to importing the goods. We will explore two methods, namely Customs Ruling and Customs Advice on classification.  
 
Customs Ruling
 
Under the Customs Act 1967, the Director General of Customs and Excise (“DG”) may upon the application of any person, issue rulings (“Customs Rulings”). Customs Rulings may be issued in respect of (1) classification of goods; (2) principles to be adopted for the purposes of determining the value of goods; or (3) any other matter prescribed by the DG.
 
An applicant for a Customs Ruling is required to complete the prescribed form (known as ‘Schedule A’), suggest a HS Code and provide supporting documents (brochures, product catalogue, certificates, safety data sheet, etc.) or a product sample to enable the RMCD to conduct its analysis. The applicant is also required to pay the prescribed application fee of RM200.00. Under the Customs (Customs Ruling) Regulations 2007, the RMCD is obliged to provide a ruling within 90 days from receipt of a complete Customs Ruling application, or in a case where an analysis report is required for the good, 60 days from the receipt by the DG of the report.
 
A Customs Ruling issued by the DG is binding on the RMCD and the applicant, and remains valid for three years. Before the expiry of the 3–year period, the applicant may apply to extend the Customs Ruling for a further two years.
 
The RMCD division that handles Customs Ruling applications is the Technical Services Division located in the RMCD Headquarters in Putrajaya. A Customs Ruling application may also be submitted via the RMCD Regional/State branches.
 
Customs Advice
 
Alternatively, an applicant may seek a Customs Advice on the classification of a good. Similar to Customs Rulings, an applicant would complete a prescribed form (known as ‘Lampiran B’) and provide supporting documents for the RMCD to provide its advice on the HS Code classification. Unlike Customs Rulings, however, the advice is non-binding and is limited to products or goods which have been classified by the RMCD Headquarters, the RMCD State Classification unit or the WCO. The analysis that forms the basis of a Customs Advice tends to be less robust as compared to a Customs Ruling on classification.
 
An application for a Customs Advice is submitted to the RMCD State branch, under the classification unit (“State Classification unit”). Upon submission of a complete application, the State Classification unit will issue an advice in 30 days.
 
THE CONUNDRUM: RULING vs ADVICE
 
Herein lies the conundrum - there are risks in both a Customs Ruling and a Customs Advice. For Customs Advice, the risk is that it is non-binding. The attending officer at the port may not agree with the advice issued by the State Classification unit. While Customs Rulings are binding and provide greater certainty when it comes to importing goods, there is a risk that the RMCD assigns a HS Code which the applicant does not agree with. In these circumstances, the applicant is bound by the ruling for three years. There are appeal processes available, but unless the applicant has compelling technical evidence to the contrary, it is likely that the appeal forum will agree with the initial ruling.
 
The RMCD appears to takes a ‘literal’ approach in reviewing the materials provided to arrive at a HS classification for a Customs Ruling. A workshop conducted by the RMCD on classification considered a case study on classifying a Japanese-make ‘double cab’ pickup truck (“the Pickup”). Typical pickup trucks are classified under HS Code 87.04 “Motor vehicles for the transport of goods”. In this instance however, the Pickup has a double cabin for passengers, it could be argued that the Pickup can also be classified under HS Code 87.03 “Motor cars and other motor vehicles principally designed for the transport of persons...” The classification is critical as a pickup vehicle classified under HS Code 87.04 would attract 30% import duties whereas one that is classified under HS Code 87.03 would only attract 10% import duties. Hence, whether the Pickup is classified under HS Code 87.03 or HS Code 87.04 could have a significant financial impact on the importer, especially if the Pickup is imported in large quantities.  
 
This is how the RMCD arrived at a classification:
 
(1)     It identified from the specifications that the Pickup’s payload is 1,060kg;
(2)     Payload was defined as maximum cargo load and passenger weight;
(3)     It then identified the average male weight as 87kg (basis unspecified);
(4)     The total passenger weight is approximately 435kg (87kg x 5 passengers);
(5)     The cargo load is therefore 625kg (Payload of 1,060kg minus total passenger weight of 435kg);
(6)     As cargo load (625kg) exceeds the total passenger weight (435kg), the Pickup would be classified under HS Code 87.04 “Motor vehicles for the transport of goods”. Hence the RMCD concluded in this instance that 30% import duties are payable.
 
This case study illustrates the method and ‘literal’ approach adopted by the RMCD in classifying goods. There is always a risk that the RMCD’s method and approach differ from what the applicant has in mind.
 
TO APPLY OR NOT APPLY? 
 
Between having a Customs Advice and no documents/feedback from the RMCD, it is better to have a Customs Advice from the State Classification unit. A Customs Advice is free and there is no risk should the Customs Advice result in a different HS Code. At least the Customs Advice serves as an indicator of the HS Code which the RMCD may apply. If the Customs Advice is favourable, a copy of the advice could be sent to the forwarders for reference and may ease the goods clearing process.
 
If the applicant’s objective is to obtain a legally binding decision, it should apply for a Customs Ruling. Given that such a ruling is valid for three years, it would be prudent for the applicant to seek advice from lawyers or consultants familiar with the classification process on the prospects of its case before submitting an application, especially where the Customs Ruling would have a long term impact on the applicant’s business.  
 
The customs classification conundrum is here to stay. Under the Goods and Services Tax (“GST”) regime, the classification conundrum was confined to customs duties under the CDO 2017. With the repeal of the Goods and Services Tax Act 2014, and the reintroduction of the Sales Tax Act 2018 in September 2018, we expect to see the classification conundrum return to impact goods the same way that it did prior to the introduction of GST.